Taming the Tide of Capital Flows

Overview

While always episodic in nature, capital flows to emerging market economies have been especially volatile since the global financial crisis. After peaking at $680 billion in 2007, flows to emerging markets turned negative at the onset of crisis in 2008, then rebounded only to recede again during the U.S. sovereign debt downgrade in 2011. Since then, flows have continued to swing wildly, leaving emerging market policy makers wondering whether they can put in place policies during the inflow phase that will soften the blow when flows subsequently recede. This book offers the first comprehensive treatment of policy measures intended to help emerging markets contend with large and volatile capital flows.

The authors, all IMF experts, explain that, in the spirit of liberalization and deregulation in the 1980s and 1990s, many emerging market governments eliminated capital inflow controls along with outflow controls. By 2012, however, capital inflow controls were again acknowledged as legitimate policy tools. Focusing on the macroeconomic and financial-stability risks associated with capital flows, the authors combine theoretical and empirical analysis to consider the interaction between monetary, exchange rate, macroprudential, and capital control policies to mitigate these risks. They examine the effectiveness of various policy tools, discuss the practical considerations and multilateral implications of their use, and provide concrete policy advice for dealing with capital inflows.

About the Authors

Atish R. Ghosh is the Historian of the International Monetary Fund.Ghosh is coauthor (with Holger C. Wolf and Anne-Marie Gulde) of Exchange Rate Regimes: Choice and Consequences (MIT Press, 2003).

Jonathan D. Ostry is Deputy Director of the Research Department of the International Monetary Fund.

Mahvash S. Qureshi is Deputy Chief of the Systemic Issues Division in the Research Department of the International Monetary Fund.

Endorsements

“When decades of strong intellectual debate about capital controls seemed to have left nothing new under the sun, this book takes a new and enlightening approach from a holistic and granular perspective. It provides a balanced perspective that views them as an integral component of a larger toolkit, without misinterpreting them as substitutes for a strong and coherent macroeconomic framework.”—Agustín Carstens, General Manager, Bank for International Settlements; former Governor, Bank of Mexico

“This book is essential reading for policy makers contending with the volatility engendered by openness to foreign capital or those considering whether to open up further to the vagaries of international financial markets. It provides a hitherto unavailable analytical exposition of how the different elements of the arsenal of policy tools to cope with capital flow volatility fit together—thus filling an important void not just for policy makers but also for undergraduates and graduate students in international economics. The authors give a compelling, and rigorously argued, account of how different policy tools can be used to mitigate the macroeconomic and financial-stability risks that surges and busts in cross-border flows can bring. In doing this, they give a way forward for countries wishing to reap the benefits from financial flows in a way that avoids some of the highest costs—financial crashes and growth collapses.”—Joseph Stiglitz, Nobel Laureate in Economics, 2001

“This book presents a thoughtful and balanced recipe for how open economies can enjoy the fruits of globalization, but in a durable and sustainable way. The authors argue persuasively that any framework of macrofinancial stabilization for an open economy should combine traditional monetary policy with macroprudential frameworks with an external orientation together with an eye on the financial impact of exchange rates. The approach is practical, and therefore nuanced and necessarily messy. But the higher level principles are always in view. This book is essential reading for any practically oriented macroeconomist or policy maker with a stake in making the global financial system work better.”—Hyun Song Shin, Economic Adviser and Head of Research, Bank for International Settlements

“In the aftermath of the global financial crisis, the International Monetary Fund changed its views on capital flows, recognizing that controls on the flows of money across national borders could serve a legitimate economic need. The economists leading this quiet revolution at the IMF now have written a book detailing the new thinking. Beyond the theory and empirics, what makes the book especially useful is the attention the authors pay to the practical aspects of managing capital flows. Policy makers and international economists alike will greatly benefit from it.”—Dani Rodrik, Ford Foundation Professor of International Political Economy, John F. Kennedy School of Government, Harvard University

“The management of capital flows has been one of the biggest challenges faced by policy makers in emerging markets and developing countries. This book offers state-of-the-art advice, using the latest theoretical and empirical work as well as practice, on how this can be done most effectively. Written by some of the foremost experts on the subject, it is a must-read for anyone who wants to understand how countries might benefit from capital flows without being overwhelmed by their costs.”—Raghuram Rajan, Katherine Dusak Miller Distinguished Service Professor of Finance, University of Chicago’s Booth School of Business; former Governor, Reserve Bank of India

“In Taming the Tide of Capital Flows, the authors deliver an insightful and comprehensive analysis of both the risks and the policies associated with cross-border capital flows. Their analytical framework is informed by an extensive knowledge of the country experiences, making this book essential reading for current or would-be policy makers.”—Carmen M. Reinhart, Minos A. Zombanakis Professor of the International Financial System, John F. Kennedy School of Government, Harvard University